History of Consumer Choice Theory

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Economics, Psychology, and the History of Consumer Choice Theory

This paper examines elements of the complex place/role/influence of psychology in the history of consumer choice theory. The paper reviews, and then challenges, the standard narrative that psychology was "in" consumer choice theory early in the neoclassical revolution, then strictly "out" during the ordinal and revealed preference revolutions, now (possibly) back in with recent developments in experimental, behavioral, and neuroeconomics. The paper uses the work of three particular economic theorists to challenge this standard narrative and then provides an alternative interpretation of the history of the relationship between psychology and consumer choice theory. The paper examines the relationship between consumer choice theory[1] and psychology during the first half of the twentieth century. There seem to be two popular views on the matter within the contemporary literature. The first is often endorsed by those who are broadly supportive of rational choice theory and its particular instantiation in (what is now) standard consumer choice theory and the second is endorsed by contemporary experimental and behavioral economists who are (to some degree) critical of rational choice theory and the way that it has traditionally been applied to consumer behavior.

Psychology In, Out, and Now (Perhaps) Back In
The term "consumer choice theory" will mean the contents of the consumer choice chapter in mainstream microeconomics textbooks; the consumer is assumed to have complete and transitive preferences (and thus could be represented by an ordinal utility function) and chooses the most preferred bundle from the affordable set defined by the standard linear budget constraint.

In simplified form, the standard story of consumer choice theory is that psychology came into economics during the neoclassical revolution of the 1870s, and remained in for the period of cardinal utility theory, but then was driven out during the ordinal and revealed preference revolutions. Starting in the 1870s the history of consumer choice theory is often presented as a series of three progressive stages: the views of the early neoclassicals, the ordinal revolution in the 1930s, and finally the move to revealed preference/consistency starting with Samuelson (1938).

The traditional characterization of (particularly British) first generation neoclassical theory is that it was a marginal utility-based choice theory employing a cardinal and hedonistic notion of utility. Cardinal in the sense that differences in the valuation of various bundles of goods took on numerical values and hedonistic in the sense that levels of utility were associated with the amount of pleasurable (or painful) psychic feeling the consumer received from the bundle in question. During the last decade of the 19th century and the first few decades of the 20th, this psychological hedonism became the main point of attack for critics of marginal utility theory

For a variety of reasons, including the rise of experimental psychology and the influence of positivist ideas about science, psychological hedonism quickly lost intellectual credibility, and given the relationship between early neoclassicism and hedonistic psychology, it became necessary for marginalist economics to reform its theoretical foundations.[2]

The standard argument is that the ordinal revolution provided the to this dilemma. According to ordinal utility theory, consumers were still assumed to maximize a utility function but the function only expressed an ordinal - better or worse - not a cardinal valuation of various commodity bundles. Consumers had preferences and those preferences could be represented by indifference curves, but a particular indifference curve was not associated with any specific level of cardinal utility. Since cardinal utility was associated with hedonistic psychology of pleasures and pains, the move to ordinal utility...
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